Fed Debates Extending Its Mortgage Purchases Beyond March

Should the Federal Reserve continue to support the housing market through its mortgage-purchase program beyond March 2010? That question stirred some contention at the Dec.15-16 meeting of the Federal Open Market Committee, according to the minutes of that meeting released Wednesday.%%DynaPub-Enhancement class="enhancement contentType-HTML Content fragmentId-1 payloadId-61603 alignment-right size-small"%% All members at the meeting agreed there should be "no changes to the Committee's large scale asset purchase programs" at that time. The committee affirmed its intention to purchase $1.25 trillion of agency mortgage-backed securities and about $175 billion of agency debt by the end of the first quarter of 2010, and to "gradually slow the pace of these purchases to promote a smooth transition in markets."

But depending on market conditions, those purchases by the Fed may not end in March. In fact, the committee "emphasized that it would continue to evaluate the timing and overall amounts of its purchases of securities in light of the evolving economic outlook and conditions in the financial markets."

A few of the members pushed for "expanding the planned scale of the Committee's large-scale asset purchases and continuing them beyond the first quarter, especially if the outlook for economic growth were to weaken or if mortgage market functioning were to deteriorate." But one member suggested that the quantity of the planned asset purchases could be scaled back. The minutes do not indicate who that member was, but that individual also suggested that "it might become appropriate to begin reducing the Federal Reserve's holdings of longer-term assets if the recovery gains strength over time."
What It All Means to You

This rarefied debate among economic policymakers has serious real-world implications for U.S. homebuyers and the housing industry. The Fed's large-scale purchases of mortgage-backed assets have been critical in keeping interest rates on mortgages low. Prior to these purchases, rates were hovering around 6%. but today they're around 5%.

You can expect loan rates to go back up to at least the 6% range, if not higher, when the Fed gets out of the market. That's because private investors for mortgage-backed securities have pretty much left the marketplace since the 2008 housing crash. They question is: When the Fed stops buying, will investors take up the slack? That's what the Fed will be watching for as it slowly pulls back its support.

The FOMC is likely to take another close look at the mortgage marketplace during its Jan. 26-27 meeting and make a final decision about whether to continue buying mortgage-backed securities in its March 16 meeting. Cutting off support for the program at the beginning of the crucial spring home-selling season could kill the weak recovery now sprouting in the housing industry, especially with the tax break for home purchases scheduled to end just one month later on April 30. So, unless private investors are indeed returning by then, the Fed is likely to continue propping up the mortgage market.

Barring major improvements in the housing market, extensions of both the Fed's asset-purchase program and the homebuyer tax credits are likely. Note what happened to real estate sales when the first-time homebuyer tax credit was scheduled to end in November: They plunged 16%. Without another extension before April 30, a similar tumble is likeley in May. And if interest rates creep up significantly when the Fed ends its asset purchases, that, too, could put the brakes on home purchases.